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Wallers v. United States

decided: May 27, 1988.


Appeal from the United States District Court for the Northern District of Illinois, Eastern Division, No. 86 C 2962, Prentice H. Marshall, Judge.

Bauer, Chief Judge, and Cudahy and Coffey, Circuit Judges.

Author: Cudahy

CUDAHY, Circuit Judge.

Joseph Wallers and Arthur Fortier, retired railroad employees, ask us to consider whether the manner of taxing their railroad retirement benefits violates their equal protection rights. In 1983, Congress imposed an income tax on railroad retirement benefits, which had long enjoyed tax-exempt status. The taxpayers do not contest the taxation of benefits labeled "Tier I." These payments are taxed in a fashion identical to social security benefits because the Tier I payments are the same as the benefits the railroad retirees would be receiving under the social security system had they not worked for a railroad and therefore been covered by social security. "Tier II" benefits, constituting the excess of total railroad retirement benefits over Tier I benefits, are taxed as private pensions, with respect to which all but the income represented by the retirees' own contributions is taxed. Wallers and Fortier charge that the tax on Tier II benefits is unconstitutional because it violates equal protection. The district court rejected this claim and, on cross-motions for summary judgment, ruled in favor of the government. We affirm.


Wallers and Fortier began working for the Chicago, Burlington & Quincy Railroad in 1923 and 1937, respectively. In 1937, Congress bifurcated the federal old age insurance program between the social security system and the railroad retirement system.*fn1 Wallers and Fortier, as railroad employees, participated in the railroad retirement program, while non-railroad employees were placed in the social security system. Until 1974 railroad retirement benefits were funded through payroll taxes paid in equal amounts by employers and employees. The applicable payroll tax rate was consistently higher than the social security payroll tax rate. As a consequence, Wallers and Fortier upon retirement in 1971 and 1975, respectively, received greater benefits than non-railroad retirees who had earned the same income.

In 1974, the railroad retirement system was divided into two programs. The Tier I program became the equivalent of social security. It taxes railroad employers and employees at the social security tax rate and distributes retirement benefits equal to those distributed by social security. Railroad retirees receive additional benefits under the Tier II program, which, from 1974 to 1981, was financed by payroll taxes paid solely by employers. Since 1981, railroad employees have been required to pay a small percentage of their income to the Tier II program.*fn2

All railroad retirement and social security benefits were tax exempt until Congress passed the Railroad Retirement Solvency Act of 1983 (the "Act" or the "Solvency Act"), Pub. L. No. 98-76, 97 Stat. 411 (codified in scattered sections of 26 U.S.C., 42 U.S.C. and 45 U.S.C.), in an effort to raise what it determined was much-needed revenue for the railroad retirement program. One feature of the Act is the imposition of an income tax on railroad retirement benefits. Tier I benefits are taxed in the same manner as social security benefits. At most, only one-half both of Tier I and of social security benefits are subject to tax, and Tier I and social security benefits are exempt from tax for individuals with an adjusted gross income of less than $25,000 and for married couples with an adjusted gross income under $32,000.*fn3 26 U.S.C. ยง 86(a)-(d). Tier II benefits, however, are taxed as qualified private pensions.*fn4 Except to the extent they represent the taxpayers' own contributions, all Tier II benefits are taxed. See infra pp. 10-11.

For the 1984 tax year, Wallers and Fortier were required to pay taxes on their Tier II benefits. They each filed a claim for refund, which the IRS denied. They then filed suit in the district court, complaining that the tax on Tier II benefits "is discriminatory and unlawful." The district court held that the tax does not violate equal protection and granted summary judgment for the government.*fn5 We affirm.


On appeal, the taxpayers argue that the method of taxing railroad retirement benefits violates the equal protection guarantees inherent in the fifth amendment. See Bolling v. Sharpe, 347 U.S. 497, 98 L. Ed. 884, 74 S. Ct. 693 (1954); United States v. Falk, 479 U.S. 616, 618 (7th Cir. 1973). They specifically contend that the Solvency Act discriminates against railroad retirees by denying them the income tax exemption for Tier II benefits that it allows for Tier I and social security benefits,*fn6 and by taxing all of their Tier II benefits while taxing only fifty percent of Tier I and social security benefits.

As an initial matter, Wallers and Fortier must show that recipients of Tier II benefits as a class have been disfavored in comparison with similarly situated taxpayers. Rostker v. Goldberg, 453 U.S. 57, 78-79, 69 L. Ed. 2d 478, 101 S. Ct. 2646 (1981); Rinaldi v. Yeager, 384 U.S. 305, 309, 16 L. Ed. 2d 577, 86 S. Ct. 1497 (1966); Desris v. City of Kenosha, 687 F.2d 1117, 1119 (7th Cir. 1982), cert. denied, 462 U.S. 1120, 77 L. Ed. 2d 1350, 103 S. Ct. 3090 (1983). In this connection, Wallers and Fortier urge that denial of the claimed income tax exemption for Tier II benefits puts railroad retirement recipients at a disadvantage with respect to social security recipients. For example, a married retiree whose total retirement income is less than $32,000 does not pay taxes on social security benefits; but a married railroad retiree with the same (relatively low) income is taxed on the portion of the income categorized as "Tier II."

We are not persuaded that railroad retirees suffer a real disadvantage in relation to social security retirees. Instead, in many respects, railroad retirees remain favored over non-railroad retirees. Despite the Tier II tax, railroad retirees continue to receive and retain greater benefits than social security retirees who earned the same income while they were working. Moreover, the tax treats railroad retirees the same as retirees who receive a private pension in addition to social security. Thus, Tier I benefits are taxed like social security benefits, and Tier II benefits are taxed like private pensions.

In any event, even if Wallers and Fortier have shown a discriminatory tax treatment of railroad retirement benefits, it does not necessarily follow that principles of equal protection have been violated. When reviewing allegedly discriminatory legislative classifications that do not burden fundamental rights or discriminate against suspect classes, the Supreme Court has consistently upheld classifications that are rationally related to a legitimate governmental purpose. See, e.g., Cleburne v. Cleburne Living Center, 473 U.S. 432, 440, 87 L. Ed. 2d 313, 105 S. Ct. 3249 (1985); Hooper v. Bernalillo County Assessor, 472 U.S. 612, 618, 86 L. Ed. 2d 487, 105 S. Ct. 2862 (1985); Regan v. Taxation With Representation, 461 U.S. 540, 547, 76 L. Ed. 2d 129, 103 S. Ct. 1997 (1983); Schweiker v. Wilson, 450 U.S. 221, 230, 67 L. Ed. 2d 186, 101 S. Ct. 1074 (1981). In examining the tax imposed by the Solvency Act, our inquiry is thus twofold. We must determine whether the governmental purpose is ...

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